A New Channel Strategy for Dell

The PC industrys increasing maturity pushed Dell to shift its longstanding direct sales model
Based on the research of Sunil Chopra
Dell impressed many in its early years with its distinct model of supply chain management, selling customized computers directly to customers to meet burgeoning PC demand. By using this innovative sales model, Dell became an industry and shareholders darling, a high-tech pioneer with seemingly limitless growth. Those days appear to be over: Dells profits and shares have dropped considerably from their peaks in recent times. And when corporate giants stumble, everyone takes note. Competitors look for weaknesses to exploit or lessons to learn. Investment analysts and the public observe maturing companies closely to decide whether to buy, sell, or hold their stock. Business professors study such firms to understand the forces that made them falterand what they can do, if anything, to recover. Such was the motivation for Sunil Chopra, Associate Dean for Curriculum and Teaching and IBM Distinguished Professor of Operations Management at the Kellogg School of Management, to examine Dells business situation and supply chain management strategy more closely. Specifically, Chopra posited that the computer manufacturer would have to shift its longstanding direct sales model in the face of the PC businesss increasing maturity. Chopra suggested that to stay competitive, Dell would have to consider selling through retail channels such as Costco or local computer stores. About six months later, Dell announced that it would offer Dimension PCs and Inspiron notebooks through Wal-Mart and Sams Club. And in September 2007 Dell announced that it would take this channel strategy overseas, selling computers through Chinas largest electronics retailer. But what was Dells rationale for the recent sales model shift? To answer this question lets consider the argument behind Chopras assessment. Channel Strategies in Mature Markets Chopras analysis of Dell appeared in an article in the October 2006 volume of Supply Chain Strategy, a newsletter published by MIT. Part of the motivation for the article was Dells stock price, which had fallen over 30 percent in the previous year (Figure 1) while rivals such as Hewlett-Packard had performed much better. In the article Chopra acknowledges that Dell could still enjoy competitive advantage from customizing computers and selling them directly to consumers, but notes that the market for such offerings has shrunk, largely because customer needs and related supply chain costs have shifted in the mature PC business. As such, Chopra endorses a hybrid model that embraces both direct and reseller channels for Dell, noting that the general lesson is that your choice of sales channel should depend on the type of product you are selling and its level of maturity. In separate communication Chopra is quick to note that he was not the only observer advocating a sales strategy shift for Dell; others, including several analysts, endorsed a similar model.

Figure 1: Dell stock price, October 2005 to October 2007

Chopra presents two major factors underlying Dells arrival at this crossroads: channel trade-offs and PC market dynamics. With regard to the former, he suggests that direct sales channels like Dells (or Amazon.coms), have much lower facility and inventory costs than retailers (e.g., your local Borders bookstore) but higher transportation costs; retailers, in contrast may have instantly available products and offer more comprehensive support, but cannot profitably stock as many different products as direct sellers. Chopras general point: product type and lifecycle stage will always influence both customer needs and supply chain costs. As such, companies cannot select one channel and expect it to always be successful. To sustain advantage they must align their chosen channels strengths with product and market characteristics. This is especially true given the PC and consumer electronics industrys dynamics over the last decade. According to Chopra, while the speed of integrated circuit development has remained relatively constantdoubling about every 24 months, in line with Moores lawthe relative value that consumers derive from each more powerful computing chip has diminished considerably. For example, a three-year-old computer today is capable of handling most common business applications such as Microsoft Office. This technology trend has clear implications for customers needs and, in turn, business models for computer sales. According to Chopra, when Dell first emerged consumers valued customization highly, and surplus stock quickly lost value, making assembly-to-order and centralized storage more profitable than selling pre-configured PCs in retail stores. But todays customers are willing to choose from a smaller number of off-the-shelf PCs, and are less concerned with customization. And, as PC prices have plummeted, inventory of standardized models turns quickly, and is less of a factor in profitability. These shifts have converged to dampen dramatically the value of the direct sales channel built around centralized inventory storage and PC customizability. So it is no surprise that Dells profits and market share have

flagged recently. The inevitable conclusion, Chopra writes, is that Dell will be forced to consider the retail channel as it moves forward. Chopra presents two potentially complementary routes by which Dell could go retail. The first, a hybrid business model, combines direct and retail sales channels to serve both broad segments of the computer market: those seeking standard models and those placing a premium on customization. Using this approach, Dell would continue selling direct but also offer a selection of pre-configured computer models through retail stores. The second model, most effective when customization is valued, involves the retailers performing the final product configuration, thus decreasing inventory costsbecause supplies are maintained in component formbut increasing assembly capacity costs. Chopra notes that this model has been used successfully in India, where customization is valued and technicians inexpensive to employ. The bottom line, as Chopra notes, is that channel choice must be related to customer needs and product characteristics. As such, he concludes that Dell would be best served by a hybrid model that includes the centralized channel for wider variety and the retail channel to move popular standardized PCs and other products. Dell Makes a Decision Apparently Dell shared much of Chopras thinking. In a New York Times article on May 25, 2007, the manufacturer announced that it would begin offering two PC models through WalMart stores in June. In a subsequent New York Times article, Dell announced that it would sell Inspiron notebook computers through Wal-Marts Sams Club outlets. And most recently the company announced that its computers would be available in major Chinese cities through fifty Gome Electrical Appliances stores, Chinas largest electronics retailer, starting in early October 2007. Dell also plans to extend its international retail strategy by opening its first retail store in Russia. Although the actual number of Dell products offered through the initial retail channels is smalljust two low-end Dimension PC models were to be available at Wal-Mart, for example the symbolic importance of the move is significant, reflecting a rethinking of the direct sales strategy Michael Dell pioneered and rode to great fame and fortune. In an April memo to employees, Dell, who returned in late January 2007 as the firms chief executive, suggested, The direct model has been a revolution, but its not a religion. (NYT 5/25/07) This sentiment is in line with Chopras belief that Dell would have to look beyond its bread-and-butter sales model to sustain profits in todays mature computer market. Another Dell executive was quick to point out that the limited move to retail was not an indication that the direct-sales model was broken (NYT 5/25/07). In fact, Dells hesitation to enter the retail channel may have resulted from unsuccessful or inconclusive past experiments. In the early 1990s Dell products were available through Best Buy, Costco, and other retailers, but the company stopped this distribution in 1994 due to low profit margins. Last year Dell opened a mall-based store in Dallas where customers could see and use computers or other products, but ultimately had to order these online through the store rather than taking them home with them. Despite clearer motivation for Dell to enter the retail channel today, as Chopras article makes clear, some industry observers point out the risks of this move. They dont want to get their

brand name too closely associated with Wal-Mart, a Forrester Research analyst points out, citing the danger of Dells products being viewed as the markets value-end. (NYT 5/25/07) Others note that it may take some time for Dell to realize much financial gain from its retail offerings, given their limited nature. Risks aside, Dells move into Wal-Mart, while retaining the centralized direct sales model, is a clear response to the trends Chopra points out, and the tactic completely aligned with his endorsement of a hybrid channel model. As another industry analyst suggests, Dell is finally listening to its customers. (NYT 5/25/07) Either that or taking the time to read the occasional Supply Chain Strategy article by a Kellogg professor Dell PC GX620 has been produced in 4 product lines Desktop (DT), Mini-tower (MT) , Small form factor (SF) and Ultra small form factor (USFF)with design ranging from large Optiplex desktop tower to thin and mountable ultra-small-form-factor computer, which can be attached on a monitor stand, thus saving some precious space on a table. Features - Design All 4 models use latest BTX format design and all have the same Dell like color dark metallic grey is dominating here. The last three chassis models can be placed vertically, thus saving more space on the table, though they lack some rubber padding for this kind of orientation. Thats why you might feel some slight vibrating noise on a smooth surface. The outside connectors in the front panels are two audio (microphone and headphone) and 2 USB 2.0 port. The back of the desktops has 6 more USB ports. Those wanting to perform their own in house maintenance will be surprised at the ease of chassis opening, which is quite pleasing, having in mind the complexity of previous model unsealing. There is a new chassis feature - diagnostic LED lights on the front panel, indicating which of the inner hardware components might be broken or malfunctioning.ed into the computer market, but it still is one of the best performance and price combinations for thrifty and demanding clients. The model has been mainly used in companies business field for its strict chassis design as well as reasonable performance, fitting most of small and medium companies' needs. Dell PC GX620 has been produced in 4 product lines Desktop (DT), Mini-tower (MT) , Small form factor (SF) and Ultra small form factor (USFF)with design ranging from large Optiplex desktop tower to thin and mountable ultra-small-form-factor computer, which can be attached on a monitor stand, thus saving some precious space on a table. Features - Design All 4 models use latest BTX format design and all have the same Dell like color dark metallic grey is dominating here. The last three chassis models can be placed vertically, thus saving more space on the table, though they lack some rubber padding for this kind of orientation. Thats why you might feel some slight vibrating noise on a smooth surface.

The outside connectors in the front panels are two audio (microphone and headphone) and 2 USB 2.0 port. The back of the desktops has 6 more USB ports. Those wanting to perform their own in house maintenance will be surprised at the ease of chassis opening, which is quite pleasing, having in mind the complexity of previous model unsealing. There is a new chassis feature - diagnostic LED lights on the front panel, indicating which of the inner hardware components might be broken or malfunctioning.ed into the computer market, but it still is one of the best performance and price combinations for thrifty and demanding clients. The model has been mainly used in companies business field for its strict chassis design as well as reasonable performance, fitting most of small and medium companies' needs. Dell PC GX620 has been produced in 4 product lines Desktop (DT), Mini-tower (MT) , Small form factor (SF) and Ultra small form factor (USFF)with design ranging from large Optiplex desktop tower to thin and mountable ultra-small-form-factor computer, which can be attached on a monitor stand, thus saving some precious space on a table. Features - Design All 4 models use latest BTX format design and all have the same Dell like color dark metallic grey is dominating here. The last three chassis models can be placed vertically, thus saving more space on the table, though they lack some rubber padding for this kind of orientation. Thats why you might feel some slight vibrating noise on a smooth surface. The outside connectors in the front panels are two audio (microphone and headphone) and 2 USB 2.0 port. The back of the desktops has 6 more USB ports. Those wanting to perform their own in house maintenance will be surprised at the ease of chassis opening, which is quite pleasing, having in mind the complexity of previous model unsealing. There is a new chassis feature - diagnostic LED lights on the front panel, indicating which of the inner hardware components might be broken or malfunctioning.ed into the computer market, but it still is one of the best performance and price combinations for thrifty and demanding clients. The model has been mainly used in companies business field for its strict chassis design as well as reasonable performance, fitting most of small and medium companies' needs. Dell PC GX620 has been produced in 4 product lines Desktop (DT), Mini-tower (MT) , Small form factor (SF) and Ultra small form factor (USFF)with design ranging from large Optiplex desktop tower to thin and mountable ultra-small-form-factor computer, which can be attached on a monitor stand, thus saving some precious space on a table. Features - Design All 4 models use latest BTX format design and all have the same Dell like color dark metallic grey is dominating here. The last three chassis models can be placed vertically, thus saving more space on the table, though they lack some rubber padding for this kind of orientation. Thats why you might feel some slight vibrating noise on a smooth surface.

The outside connectors in the front panels are two audio (microphone and headphone) and 2 USB 2.0 port. The back of the desktops has 6 more USB ports. Those wanting to perform their own in house maintenance will be surprised at the ease of chassis opening, which is quite pleasing, having in mind the complexity of previous model unsealing. There is a new chassis feature - diagnostic LED lights on the front panel, indicating which of the inner hardware components might be broken or malfunctioning.ed into the computer market, but it still is one of the best performance and price combinations for thrifty and demanding clients. The model has been mainly used in companies business field for its strict chassis design as well as reasonable performance, fitting most of small and medium companies' needs. Dell PC GX620 has been produced in 4 product lines Desktop (DT), Mini-tower (MT) , Small form factor (SF) and Ultra small form factor (USFF)with design ranging from large Optiplex desktop tower to thin and mountable ultra-small-form-factor computer, which can be attached on a monitor stand, thus saving some precious space on a table. Features - Design All 4 models use latest BTX format design and all have the same Dell like color dark metallic grey is dominating here. The last three chassis models can be placed vertically, thus saving more space on the table, though they lack some rubber padding for this kind of orientation. Thats why you might feel some slight vibrating noise on a smooth surface. The outside connectors in the front panels are two audio (microphone and headphone) and 2 USB 2.0 port. The back of the desktops has 6 more USB ports. Those wanting to perform their own in house maintenance will be surprised at the ease of chassis opening, which is quite pleasing, having in mind the complexity of previous model unsealing. There is a new chassis feature - diagnostic LED lights on the front panel, indicating which of the inner hardware components might be broken or malfunctioning.

Dell's Competitive Advantage

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During the heyday of the technology boom throughout the 1990s many companies experienced enormous success for a few years, however without creating a solid internal framework many of these companies did not survive. An exception to that business trend is Dell, which was able to address its problems associated with rapid growth, and build itself into a lasting profitable company. Dell was able to create this lasting profitability with three essential ingredients: 1. Virtual Integration 2. Real value customer service features 3. Tailoring Manufacturing to customer needs. In 1993 Dell reached a point where it had grown too large, without making the necessary internal improvements to stay profitable. Dell reached a Eureka moment in 1993 when its cash flow sank to $20 million, net income was negative $40 million, and its market share had shrunk considerably. By bringing in several seasoned managers to focus on specific aspects of the business Michael Dell hoped that Dell could become a synchronized, efficient, and profitable business again. These improvements lead to Michael Dells breakthrough concept of virtual integration, which goes a step further than traditional integration by connecting the right parts together in the business. From this concept three key integrations formed: 1. A symbiotic relationship between Dell and its suppliers; 2. Customers linked directly to manufacturer; and 3. End user were linked to proper customer service assistance. Each one of these measures enabled costs cuts; quicker deliver time, and a more reliable finished product. For instance, with this new symbiotic relationship with its suppliers allowed Dell to trim the number of suppliers it used from 204 to 47 in their Austin facility between 1995 and 1998. These integrations caused the number of days a PC sat in inventory from 32 days to 7 days. By customizing orders the customer received a product tailored to their desires while Dell saved money and time on manufacturing. Tailoring manufacturing to a customer's specific needs allowed Dell to integrate production schedules with sales flows, assemble all parts of the PC on site, and install the specific software that the customer requested. These manufacturing interactions sped up the final products completion time to thirty-six hours. The swiftness of the manufacturing process added value to the customer by quickening the delivery time. As well suppliers wanted to do business with Dell because there inventory levels rarely pilled up. The advantages in this chain of integrations added value to the customers product, while also adding value to Dell as a corporation. Dell's corporate value made it one of the best investments in the 1990s.

Dell did something else other PC companies were not doing; strategically targeting only the customers they wanted. By defining their customer as a knowledgeable PC user Dell made their task of providing a PC easier. Their customers did not need to go to a retail store to gain knowledge about their product. This enabled the Direct Model for purchasing PCs to work. Dell further expanded its ability to meet customers needs by classify customers into specific categories. Customers were categorized into Relationship buyers, large businesses and institutions, and Transaction buyers, small business and home PC users. The Relational buyers made up a significantly larger portion of Dells business but also had different needs than Transaction buyers. Every relational buyer was assigned a representative who guided the business and institution through each stage of the buying experience. By integrating both Relational and Transaction buyers into their business system repeat purchases were quick and easy, purchasing history could be consulted, and follow up customer service was able to be more effective. Dells business structure of virtual integration allowed it to excel in an incredibly competitive industry. It's competitiveness in the industry resulted from a highly efficient business model that sought out every opportunity to work more productively without compromising the quality of their product. Production efficiency lowered cost which in turn provided Dell with larger profit margins. As Porters Five Forces demonstrates, when bargaining power of buyers is high, the potential for price battles increases. Dell combated failing into the trap of a price battle by making a PC that was a better product than the competitors, yet near their competitors price. There costs were able to stay competitive while delivering an exceptional product because their business kept internal costs low, thus showing the effectiveness of virtual integration. Like Honda, Dell was able to provide a technologically superior product at a reasonable price. As well, Dell was able to evade a price war because its customers were aware of the technological value in a Dell PC.